Friday, April 29, 2011

Where are the Grownups?

When it comes to economic policy, the grownups among politicians in Washington DC have gone missing. (Brad Delong clearly needs to resume his occasional series, "Grownup Republican Watch".) And in today's world where uninformed, discredited, and illogical economic policies seem to be eagerly accepted as gospel by legislators, the grownups have gone quiet on both sides of the aisle:

A growing number of Democrats are threatening to defy the White House over the national debt, joining Republican calls for deficit cuts as a requirement for consenting to lift the country’s borrowing limit.

The tension is the latest illustration of how the tea-party-infused GOP is driving the debate in Washington over federal spending.

So the dangerous game in which the possibility of US government default is a bargaining chip does not seem to be over, and in fact seems to be getting new players.

And then there's the real and destructive impact of the growing threats against the Fed's independence.

Thinking more about how effective those threats from inflationistas in Washington have been in shaping current monetary policy, I came across this piece from last fall by Kenneth Silber (at David Frum's website):

The Fed chairman was testifying before the House banking committee. When he explained the central bank’s planned course of action, the members reacted with fury. Rep. Frank Annunzio (D-Ill.) shouted: “Your course of action is wrong.” Rep. George Hansen (R-Idaho) railed that the Fed was “destroying middle America.” Rep. Henry Gonzalez (D-Texas) called for the chairman’s impeachment.

That was in July 1981. The Fed chairman was Paul Volcker and the course of action the members were decrying was a further tightening of monetary policy. As the economy fell into recession, public outrage toward the Fed grew. Volcker’s mail included bricks from contractors to symbolize the houses they couldn’t build, and keys from car dealers for cars they couldn’t sell.

Yet the Fed stuck to its guns and ultimately won widespread plaudits for taming inflation. An underappreciated aspect of this episode is that President Ronald Reagan not only refrained from jumping on the anti-Fed bandwagon but also defended the institution and its independent role in making monetary policy. “This administration will always support the political independence of the Federal Reserve Board,” he said in a February 1982 press conference in the midst of recession.

As in so many policy arenas, the grownups in the Repuiblican party used to be willing to speak up. But not today. As a result, the US's monetary policy is being influenced by extreme political rhetoric and bizaare economic theories to a worrying degree.

Okay, I admit it: when fringe elements in Washington (mainly on the right, but partly on the left as well) began making noise about reducing the Fed's independence over the past year or two, I discounted it. Given how important central bank independence is to long-run monetary policy, and given how difficult it is to regain such independence once it is lost, I never thought that such yapping would ever be allowed to have any significant impact on how the US conducts its monetary policy.

But I now think I was wrong. I now think that the current threats to the Fed's independence may be a serious danger to the long-term economic prospects of the US economy -- certainly a far more serious danger than any government budget deficit you care to imagine. I now think that Ron Paul and his supporters actually have more power, and are more dangerous, than I ever could have imagined possible.

And where are the Fed's defenders? Sure, plenty of economists have gone on the record affirming the importance of keeping the Fed insulated from political pressure. But where are the politicians who are willing to do the same? And why are so many elected officials today willing to risk serious and possibly irrevocable damage to the US economy, whether it be by threatening to force the US government to default or by threatening to curb the Fed's independence? Where are the grownups?

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The Street Light is written by economist Kash Mansori, who works as an economic consultant (though views expressed here are entirely his own), writes whenever he can in his spare time, and teaches a bit here and there. You can contact him by writing to the gmail account streetlightblog. (More about Kash.)